New short-sale program offers relief for underwater homeowners

One of the federal government’s most-important financial relief efforts for underwater homeowners went into effect as of November 1st. Some key points about the program…

• Short sales, where the lender agrees to accept less than the full amount owed and the house is sold to a new purchaser at a discounted price, are typically associated with extended periods of delinquency by the homeowner. The new Fannie Mae-Freddie Mac program breaks with convention by allowing short sales even for owners who are current on their mortgage payments but are encountering a hardship that has the potential of forcing them into default.

• Eligible hardships under the new program run the gamut: Job loss or reduction in income; divorce or separation; death of a borrower or another wage earner who helps pay the mortgage; serious illness or disability; employment transfer of 50 miles or greater; natural or man-made disaster; a sudden increase in housing expenses beyond the borrower’s control; a business failure; and “other,” meaning a serious financial issue that isn’t one of the above.

• Homeowners participating in this program should be aware that borrowers who use the new program may incur penalties on their FICO credit scores of 150 points or more. The Federal Housing Finance Agency (FHFA) – the agency overseeing this new program – is working on possible solutions to this issue with the credit industry.

• Other factors to consider are promissory notes and other “contributions.” In the majority of states where lenders can pursue deficiencies, Fannie and Freddie expect borrowers who have assets to either make upfront cash contributions covering some of the loan balance owed or sign a promissory note. This would be in exchange for an official waiver of the debt for credit reporting purposes, potentially producing a more favorable credit score for the sellers.

• Finally, participants should be aware of second-lien hurdles. The program sets a $6,000 limit on what second lien holders – banks that have extended equity lines of credit or second mortgages on underwater properties – can collect out of the new short sales. Some banks, however, don’t consider this a sufficient amount and may threaten to thwart sales if they cannot somehow extract more.